Mistake #1: Entity Selection
Selecting the right entity structure for your real estate company is vital to your success. You want to take steps to preserve your personal liability and provide a clear separation of the business from you and other owners. You can choose from several options, from a limited liability company (LLC) to a limited partnership to an S corporation, but which one is the best for tax purposes?
If your goal is to buy and hold your properties, we recommend forming an LLC. It’s the best entity for most real estate investors with capital assets when your goal is to achieve rental income. This business structure allows profit and taxes to pass on to the owners without the potential for double taxation that other entity types might face while protecting members from personal liability. Even if you operate as a single-member LLC, keeping separate financial accounts for the company and not using personal assets for the business will help set you up for success.
For example, if a liability issue arises with a sole proprietorship or a general partnership, your personal assets are at risk. That would be a huge mistake on your part. Instead, ensure you adequately prepare for the potential that your business fails and prevent banks or investors from recovering their losses from any of the owners, including you. An LLC could be all that stands between the court and your personal assets if your entity comes under legal attack.
Mistake #2: Anonymity
Landlords are frequent targets of lawsuits, so it makes sense that a real estate investor would want to remain anonymous. There are many benefits to using anonymity to protect your assets. However, trying to stay incognito when buying properties is a mistake. Most state laws prevent anonymous ownership of tangible assets such as homes and apartment buildings. You shouldn’t be concerned about giving your information to a bank or lending institution as an investor.
On the other side of your business, anonymity might have some value. For example, if you’re flipping or wholesaling real estate, you’ll probably need to sign contracts with builders or other outside parties. On the other hand, if you’re signing as a corporate officer of your business, anonymity might offer some protection.
Mistake #3: Quick Claim Deed
Transferring ownership of your new real estate isn’t always a quick and easy task. It’s tempting to opt for a quick or quit claim deed, but that’s not the best idea. This instrument gives homeowners (the grantor) a way to bypass any interest they have in a property to you (the grantee) without having to jump through the traditional legal hoops. While it might seem like a relatively simple affair, it can be a risky practice.
While a quick claim deed provides the simplest way to transfer ownership of a property, it lacks safeguards, warranties, and oversight. These legal documents offer virtually no guarantees about the ownership, protection from title defects, or validity of the investor’s right to sell the home. They can also be tricky to navigate and expose you to all kinds of legal and tax issues.